Harbin Electric Shares Popped: What You Need to Know

Although we don't believe in timing the market or panicking over market movements, we do like to keep an eye on big changes -- just in case they're material to our investing thesis.

What: Shares of Chinese electric-motor manufacturer Harbin Electric (Nasdaq: HRBN) built on strong gains on Friday with a massive jump today, tacking on as much as 73% in intraday trading on heavy volume.

So what: Harbin's shares had been torpedoed by a critical report from short seller Citron Research, but they made a bit of a comeback last week after the company refuted Citron's claims. Today, the stock was flying high thanks to a press release saying that Harbin had entered into a definitive merger agreement that would have the company bought out by its chairman and private-equity investor Abax Global for $24 per share.

Now what: Should this buyout go through, it would be a severe blow to skeptics who have sold Harbin's stock short. The stock has already posted hefty gains, but it would still have to rise an additional 70%-plus to reach the buyout price. What does it mean that Harbin's still trading so far below that price? Essentially, investors remain very skeptical that the deal is for real.

I won't jump on this gamble, but over the coming six months or so -- the deal is expected to close in the fourth quarter -- investors on one side of this bet will likely make a killing.

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What TMF doesn't seem to get is that the shorts have already made their killing, and on both sides. They drive the stocks down right before options expiration date (this week, June 18th), and cash in on all of their puts. Did you notice that July calls were being purchased en masse at the same time? Meaning that the shorts were counting on driving the price down, cashing in at the low price, investing immediately in puts, and profiting on the stocks bounce-back. Too predictable.

Sending report...

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